Cracking down on payday lenders will hurt the poor

Payday loans and pawnbrokers are a common feature of the nation’s high streets today, as they have been for centuries.  Recently however they have experienced something of a boom. Now they are also going online and increasingly advertising their products on TV. One company in particular – Wonga – has become something of a household name.  All of this has provoked calls for the sector to be regulated or even outlawed.

Now we have a summit and a lot of public statements from politicians to the effect that the activities of payday loan companies are uncompetitive and against the public interest. This kind of policy agenda is wrong on a number of grounds.

It would firstly be wrong in itself, as it would prohibit a voluntary transaction between consenting adults that does not cause direct or immediate harm to anyone, and certainly not to third parties. In economic terms such action would also be misguided and would harm the people it is intended to help, the poor.

Most attacks on payday loans and pawnbrokers cite truly eye-watering rates of interest but this is deeply misleading. The figures cited are for Annualised Percentage Rates (APR) but these only truly apply if the loan is repaid over a long period of something close to a year or more.

In fact, loans from payday lenders are almost always paid off over a very short time period (typically days or one to two weeks) so the actual amount of interest paid is nothing like that suggested. Loans of this kind are not for large purchases or for servicing over a long period –  they are intended to provide needed cash in the very short term. They are a mechanism for letting very poor people (and others as well) get needed short term liquidity.  This is done on the basis of the only kind of security many poor people have, future income from employment, or personal possessions.

As such, short term lenders such as payday loan companies are very valuable and their absence would make short term cash-flow problems much more serious and harmful than they otherwise need be for many people. If cash is needed in the very short term to meet a utility bill, for example, far better that the liquidity be provided in the short term and the bill be paid than that somebody have their power cut off or be put on a punitive payment schedule that would last a lot longer.

Evidence shows us that bans and restrictions can often make a difficult situation more difficult still. For example, interest caps in France and Germany saw financial breakdowns –  such as bankruptcy – rocket to five times the UK’s level amongst people with debt troubles.

Even more likely, the demand for these kinds of loans would remain but would now be met by truly unsavoury characters. If you want to help loan sharks and low life money lenders then restricting legitimate firms such as Wonga is the way to go.

Politicians are sending out very mixed messages. They want to limit lending from companies such as Wonga, but simultaneously complain that major banks are not lending enough to relatively risky small businesses. It would be a grave error indeed to credit politicians with the wisdom to determine what interest rates should justify what loans.

Read the original article in The Spectator here.

Perhaps part of the difficulty is that the UK government itself is suffering from a problem of solvency not of liquidity. My own 'solution' to that problem -- an honest default by the government -- appears not to meet with general agreement. Ministers may not fully appreciate some people's urgent need for very short-term liquidity since they can solve any government liquidity problems simply by printing money. Another part of the difficulty may stem from ministers' desire to be seen to be doing something about a supposed problem. As an advocate of laissez-faire I would much prefer governments to be seen to be doing nothing. At least then there's a fair chance they wouldn't be doing any harm.
One could suggest that Government is hardly in a position to lecture anyone about the need, availability or cost of credit. Government led by political parties wastes vast amounts of money, seems almost incapable of managing it's own spending commitments to meet a budget requirement, increases tax revenues when it wants to without any real consequence to itself, prints money when things get a little tight, and not only borrows money in the form of gilts but also sets borrowing interest rates. They have no concept of budgeting. Most MPs and senior civil servants have never experienced personal austerity. They've never had to make ends really meet. In addition they are addicted to the levers of power and believe that a reduction in the scope and reach of Government would lessen thier influence on society. If anything, Government should be forced to borrow money from Then they might understand that borrowing really should be a short term tactic, and that Government finances, just like household budgets, must be sustainable within the available funds.
" ......that does not cause direct or immediate harm to anyone" Setting aside Utopia, some regulation laws or customs have always been required where human groups large enough not to all know each other personally have congregated. Unlike motorists, company directors, gun users, property owners, lawyers, accountants, doctors, in fact pretty much everybody, until recently, only the finance and banking professions have been free to do as much harm as they want with no real sanction. History (a much better source of actual human behavioural truths than economics) teaches us that elites given free rein will almost inevitably act so as to harm majority interests and hence majorities have historically acted to restrain them whether by popular movement and resulting law or failing that, by violence. I hope no-one still seriously argues (as many once did) that the seatbelt laws are a diabolical infringement of human freedoms. A society that allowed actors to cause indirect or contingent harm to anyone by anyone by any means at any time would not be a country I would chose to live in. Regulation of bankers and financiers to prevent any actual direct or indirect, or contingent harm to anyone is necessary and inevitable. The Road Code is not an evil, nor would a rational banking and finance code. At the moment banking and finance regulation is obsessed with barriers to entry in terms of qualifications and "experience" to get licensed, considerable set up costs, and expensive audit and supervision to minimise theft while permitting egregious risk taking, exploitation, and usury. The regulations would much better serve us all if they imposed clear behavioural boundaries to the laissez faire profit motive and promoted social responsibility with real prison time punishments for breach and then let everyone who wanted in to have a go.

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